The IRS issued Rev. Proc.
2010-32, which provides relief to certain foreign eligible
entities that made erroneous entity classification elections
(check-the-box elections) based on a mistaken understanding
of the number of owners as of the effective date of the
election.

In general, when the requirements of Rev.
Proc. 2010-32 are met, the IRS will respect the intention of
a qualified entity (defined below) to be treated as a
flowthrough entity (i.e., as a partnership or disregarded as
an entity separate from its owner (a disregarded entity))
rather than treat the qualified entity as an association
taxable as a corporation. More specifically, if a qualified
entity elected to be a partnership based on the reasonable
assumption that it had more than one owner, but then
determined it only had one owner as of the effective date of
the election, the IRS will treat the original election as an
election to classify the qualified entity as a disregarded
entity as long as the requirements of Rev. Proc. 2010-32 are
met. Similarly, if a qualified entity elected to be a
disregarded entity based on the reasonable assumption that
it had one owner, but then determined it had more than one
owner as of the effective date of the election, the IRS will
treat the original election as an election to classify the
qualified entity as a partnership as long as the
requirements of Rev. Proc. 2010-32 are met.

The
relief granted by Rev. Proc. 2010-32 is in lieu of the
letter ruling process ordinarily used to obtain relief for a
late change of entity classification. As such, user fees do
not apply to the corrective actions granted under Rev. Proc.
2010-32.

Rev. Proc. 2010-32 is effective on September
7, 2010. Any qualified entity that meets the requirements of
Rev. Proc. 2010-32 as of September 7, 2010, may seek relief
pursuant to the revenue procedure.

Definition of “Qualified Entity”

In
Rev. Proc. 2010-32, Treasury and the IRS have acknowledged
taxpayers’ concerns regarding the validity of certain
check-the-box elections when a foreign eligible entity
elects to be classified as a partnership or as a disregarded
entity but has made an error regarding the number of owners.
The concern is a result of the uncertainty that may exist
regarding the number of owners of a foreign eligible entity
on the effective date of the check-the-box election. To
achieve certainty, taxpayers sought permission to file a
late election under the letter ruling process.

To
alleviate these concerns and simplify tax administration,
the IRS has indicated that it will treat a check-the-box
election under Regs. Sec. 301.7701-3(c) to classify a
foreign eligible entity that is a qualified entity as a
partnership or disregarded entity as an election to be
treated as a partnership or disregarded entity (as
appropriate), rather than as an association taxable as a
corporation, if the requirements of Rev. Proc. 2010-32 are
met.

In order to avail itself of the relief provided by
this revenue procedure, a business entity must be a
“qualified entity.” A business entity is a qualified entity
if the following conditions are satisfied:

The business entity is an eligible entity per Regs.
Sec. 301.7701-3(a);

The business entity is a
foreign entity per Regs. Sec. 301.7701-5(a);

The classification of the business entity, either by
default under Regs. Sec. 301.7701-3(b)(2)(i)(B) for a
newly formed or newly relevant eligible entity, or by
election under Regs. Sec. 301.7701-3(c) for an existing
relevant entity, would be or was an association taxable as
a corporation;

As a partnership
based on the reasonable assumption that it had two or
more owners as of the effective date of the election;
or

As a disregarded entity based on
the reasonable assumption that it had a single owner
as of the effective date of the election;

For federal tax purposes, either:

The business entity and its actual and
purported owners (or owner) have treated the entity
consistently with the election on the otherwise valid
Form 8832 on all filed information and tax returns; or

No information or tax returns have
been required to be filed since the effective date for
the election made on the otherwise valid Form 8832;
and

The limitation
period on assessments (per Sec. 6501(a)) has not ended for
any tax year of the business entity or its actual and
purported owners (or owner) affected by the election made
on the otherwise valid Form 8832.

If a
business entity does not qualify for relief under this
revenue procedure, the entity may request relief through the
letter ruling process in accordance with Rev. Proc. 2010-1
(or its successor).

Process for
Obtaining Relief

If a qualified entity files an
otherwise valid Form 8832 to be classified as a partnership
for federal tax purposes but it is later determined that the
qualified entity had a single owner for federal tax purposes
as of the effective date of the election, the IRS will treat
the Form 8832 as an election to classify the qualified
entity as a disregarded entity for federal tax purposes
provided that:

The qualified entity’s
actual single owner and purported owners as of the
effective date of the election file original or amended
returns consistent with the appropriate treatment of the
entity as a disregarded entity for any tax year that would
have been affected if the election had been made to treat
the qualified entity as a disregarded entity for federal
tax purposes;

All required amended returns
are filed before the close of the limitation period on
assessments under Sec. 6501(a) for any relevant tax year;
and

A corrected Form 8832 is filed with the
appropriate IRS Service Center and a copy of the corrected
Form 8832 is attached to the single owner’s amended return
for the tax year during which the original election was
made as required under Regs. Sec. 301.7701-3(c)(1)(ii).
The statement “Filed Pursuant to Revenue Procedure
2010-32” must be written across the top of the corrected
Form 8832. The corrected form must also satisfy the
requirements of Regs. Sec. 301.7701-3(c)(2)(i).

If a qualified entity files an otherwise valid Form
8832 to be classified as a disregarded entity for federal
tax purposes but it is later determined that the qualified
entity had two or more owners for federal tax purposes as of
the effective date of the election, the IRS will treat the
Form 8832 as an election to classify the qualified entity as
a partnership for federal tax purposes provided that:

The qualified entity files information returns
and its actual owners file original or amended returns
consistent with the treatment of the entity as a
partnership for any tax year that would have been affected
if the original election had been made to treat the
qualified entity as a partnership for federal tax
purposes;

All required information and
amended returns are filed before the close of the
limitation period on assessments under Sec. 6501(a) for
the relevant tax year; and

A corrected Form
8832 is filed with the appropriate IRS Service Center and
a copy of the corrected Form 8832 is attached to the
owners’ amended returns for the tax year during which the
original election was made as required under Regs. Sec.
301.7701-3(c)(1)(ii). The statement “Filed Pursuant to
Revenue Procedure 2010-32” must be written across the top
of the corrected Form 8832. The corrected form must also
satisfy the requirements of Regs. Sec.
301.7701-3(c)(2)(i).

Implications

Rev. Proc. 2010-32 provides
welcome relief for taxpayers that misidentified the number
of owners of foreign eligible entities electing flowthrough
status for U.S. federal tax purposes as of the effective
date of the elections. Taxpayers meeting the requirements of
this revenue procedure may now avail themselves of this
relief process in lieu of requesting relief through the
potentially time-consuming letter ruling process and paying
a user fee. While Rev. Proc. 2010-32 does not provide
guidance for those taxpayers that have filed for relief
under the letter ruling process and otherwise could seek
relief under this revenue procedure, such taxpayers might
consider withdrawing their ruling requests and seek relief
under this revenue procedure. The revenue procedure,
however, does not provide taxpayers with guidance regarding
withdrawing a previously submitted letter ruling request,
including the potential for obtaining a refund of user fees
upon withdrawal of the ruling request. In the absence of
guidance in Rev. Proc. 2010-32 addressing this issue, it
appears that the general rules described in Section 15 of
Rev. Proc. 2010-1 apply, suggesting that the IRS would not
refund user fees except in limited circumstances.

Taxpayers should also be aware that while Rev. Proc.
2010-32 addresses two common errors taxpayers may make when
preparing and filing the Form 8832, the revenue procedure
does not address other common taxpayer errors affecting the
validity of a Form 8832, including, for example, situations
in which the signature requirements are not satisfied on the
originally filed Form 8832 or the effective date requested
on the Form 8832 is not the desired effective date. In such
cases, taxpayers should consider whether the Form 8832 as
filed is sufficient to make a valid election or whether it
is advisable to correct the errors, including requesting
relief under the letter ruling process.

Taxpayers
should also recognize that Rev. Proc. 2010-32 incorporates a
reasonableness standard in its scope. The original election,
although later determined to be erroneous, must have been
based on a reasonable assumption as to the number of owners
as of the effective date of the election. Presumably, an
unreasonable assumption as to the number of owners would not
qualify for relief under this revenue procedure. However,
the revenue procedure does not define the term “reasonable,”
and thus the standard may be a potential source of
uncertainty in applying the revenue procedure. This may be
especially pertinent where there is no U.S. equivalent or
analog to the type of foreign entity making the election,
making it difficult to determine the number of owners for
U.S. federal tax purposes.

The revenue procedure
provides guidance only on the classification of the entities
within its scope. Taxpayers should be aware of the income
tax implications of having partnership status rather than
disregarded entity status and vice versa and should consult
with their advisers concerning such implications.

Taxpayers required to e-file are reminded that amended
returns must also be e-filed. However, the IRS Modernized
eFile (MeF) system accepts only three tax years at any
point. For example, through December 2010, amended returns
for tax years 2007–2009 are accepted, and amended returns
for earlier years must be paper filed. As of January 2011,
tax year 2007 returns will then have to be paper filed.

Form 1120X, Amended U.S. Corporation Income Tax Return,
is submitted to the MeF by e-filing a Form 1120, U.S.
Corporation Income Tax Return, with the Form 1120X included
in the XML file. A copy of the corrected and signed Form
8832 (including the statement written at the top described
above) that was submitted to the IRS Service Center should
be attached as a PDF to the e-filed amended return.

EditorNotes

Michael Dell is a partner at Ernst & Young LLP in
Washington, DC.

For additional information about
these items, contact Mr. Dell at 202-327-8788 or michael.dell@ey.com.

The winner of The Tax Adviser’s 2014 Best Article Award is James M. Greenwell, CPA, MST, a senior tax specialist–partnerships with Phillips 66 in Bartlesville, Okla., for his article, “Partnership Capital Account Revaluations: An In-Depth Look at Sec. 704(c) Allocations.”

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